Forties Outage Causes Price Reaction as OPEC Continues Cuts

Brent oil prices jumped to the highest price in more than two years on Monday on news that the Forties pipeline system in the North Sea would be shut for several weeks for repairs. The operator of the Forties system, Ineos, said that a hairline crack was discovered last week during a routine inspection, and the problem worsened in the ensuing days, forcing the shutdown.

The significance of the outage is magnified by the ongoing OPEC cuts and the global oil markets seeing sharp declines in inventories.

The Forties system plays an outsized role in global oil markets because of its capacity (450,000 barrels per day), and it also carries one of the main oil blends included in the Brent benchmark price. Although the price fell back after its initial rally, the extended outage may have longer-term effects: Its significance is magnified by the ongoing OPEC cuts and the global oil markets seeing sharp declines in inventories. Supply disruptions anywhere globally impact consumers in all markets, as evidenced by a string of outages throughout 2017 that lifted prices.

Forties plays a large role in Dated Brent

The Brent futures contract took its name from an oilfield of the same name, located between Norway and the UK in the North Sea, which was discovered in 1972 and began production in 1976. Production peaked at just over 500,000 barrels per day (b/d) in the early 1980s. By the 2000s, with production in decline, pricing service Platts began including the Forties field, as well as the Norwegian fields of Oseberg and Ekofisk, into the price for Brent (both Dated Brent and Brent futures). Today, the Forties system accounts for about 40 percent of the crude that goes into the Brent stream.

The role of Forties in determining the price of Brent meant that the pipeline shutdown took on greater importance. “It’s more than just a supply disruption because it’s more significant as a price maker,” Olivier Jakob, managing director of Petromatrix, said in a Bloomberg interview. “There’s one thing which is the volume of oil which is lost, but it’s also that it’s a key price benchmark.” Brent briefly surpassed $65 per barrel, the highest price since mid-2015, and Brent spot prices temporarily traded at a $7-per-barrel premium to U.S. benchmark WTI.

Forties outage highlights tight supply

Since the Forties system carries a hefty 450,000 b/d, upstream producers in the North Sea could see their operations interrupted. Apache Corp., for instance, stated on December 11 that it was forced to shut down operations at the Forties field. A couple of other closures came from BP, Royal Dutch Shell, and Chryasaor. The shutdown announcements will multiply in the coming days as storage onboard platforms fill up, according to S&P Global Platts. The Forties system handles oil from over 80 oil fields, and according to JBC Energy, the disruptions could “spill over into January.”

The outage of a sizable portion of North Sea oil supply will likely constrain in the Atlantic Basin, which has already experienced tightening conditions this year. One of the main destinations for Forties crude is the major refining hub in Rotterdam, an area where gasoil and diesel stocks “reportedly fell to their lowest level in more than three years in early November,” the IEA said in its November Oil Market Report.

Because of the Forties outage, there will be increased competition for alternatives to the medium sour Brent. Higher demand for Russian Urals blend and the UAE’s Murban crude could put upward pressure on prices elsewhere around the world.

A noted above, the outage had an immediate effect on the market because of broader tightening fundamentals. The OPEC cuts, extended through the end of 2018, are taking a portion of supply out of the global market even as demand continues to expand at an annualized rate of roughly 1.5 million barrels per day (mbd), according to the IEA. Restrained output, combined with strong demand, has accelerated a sharp drawdown in inventories. Total commercial OECD stocks fell by more than 40 million barrels in September, dropping below the 3,000 million-barrel mark for the first time in nearly two years, according to the IEA. The surplus over the five-year average dipped to just 140 million barrels, down by more than half since the start of the year.

Unexpected outages have contributed to the reduction of a good portion of the global surplus.

Meanwhile, other unexpected outages have contributed to the reduction of a good portion of the global surplus. Over 1 mbd, or an estimated 1 percent of global supply, was knocked offline between October and November in the U.S., the UK (Forties), Venezuela, and Iraq. “When you have big voluntary cuts, you can’t afford many unplanned outages,” Olivier Jakob of Petromatrix told the Wall Street Journal. Venezuela’s output could decline at an faster rate in 2018, with estimates varying widely from 100,000 b/d on the low end, to three or four times that in more pessimistic scenarios.

Little room for error

Because OPEC and its non-OPEC partners plan to continue to constrict supply by 1.8 mbd (roughly 2 percent of global output) through the end of 2018, the market could see a supply/demand deficit for much of next year. That would reduce inventories to the five-year average, and it also raises the risk of prices overshooting if other supply disruptions occur. Goldman Sachs says that although there is the typical uncertainty with forecasting oil prices, its analysts believe that the risk is “skewed to the upside into 2018 on the risk of an overtightening, either because of new disruptions, demand exceeding our optimistic forecast or OEPC letting the stock draw run hot.”

The price risk is “skewed to the upside into 2018 on the risk of an overtightening, either because of new disruptions, demand exceeding our optimistic forecast or OEPC letting the stock draw run hot.”

The outage at the Forties system highlights the threat of unexpected outages in a market that is becoming increasingly tight. An upcoming planned strike by Nigerian oil workers is another example of that could significantly impact prices. Heading into 2018, there are various potential problems on the supply side. They include but are not limited to uncertainty in Iraq, accelerated declines in Venezuela, instability in Libya or a much lower-than-expected increase in U.S. shale production. There is not immediate danger of the world being short on oil, but consumers are bearing the brunt of unplanned outages occurring at the same time OPEC is cutting supply.

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The Fuse is an energy news and analysis site supported by Securing America’s Future Energy. The views expressed here are those of individual contributors and do not necessarily represent the views of the organization.

Issues in Focus

Safety Standards for Crude-By-Rail Shipments

A series of accidents in North America in recent years have raised concerns regarding rail shipments of crude oil. Fatal accidents in Lynchburg, Virginia, Lac-Megantic, Quebec, Fayette County, West Virginia, and (most recently) Culbertson, Montana have prompted public outcry and regulatory scrutiny.

2014 saw an all-time record of 144 oil train incidents in the U.S.—up from just one in 2009—causing a total of more than $7 million in damage.

The spate of crude-by-rail accidents has emerged from the confluence of three factors. First is the massive increase in oil movements by rail, which has increased more than three-fold since 2010. Second is the inadequate safety features of DOT-111 cars, particularly those constructed prior to 2011, which account for roughly 70 percent of tank cars on U.S. railroads. Third is the high volatility of oil produced from the Bakken and other shale formations, which makes this crude more prone towards combustion.

Of these three, rail car safety standards is the factor over which regulators can exert the most control. After months of regulatory review, on May 1, 2015, the White House and the Department of Transportation unveiled the new safety standards. The announcement also coincided with new tank car standards in Canada—a critical move, since many crude by rail shipments cross the U.S.-Canadian border. In the words DOT, the new rule:

Since the rule was announced, Republicans in Congress sought to roll back the provision calling for an advanced breaking system, following concerns from the rail industry that such an upgrade would be unnecessary and could cost billions of dollars. The advanced braking systems are required to be in place by 2021.

Democrats in Congress have argued that the new rules are insufficient to mitigate the danger. Senator Maria Cantwell (D-WA) and Senator Tammy Baldwin (D-WI) both issued statements arguing that the rules were insufficient and the timelines for safety improvements were too long.

The current industry standard car, the CPC-1232, came into usage in October 2011. These cars have half inch thick shells (marginally thicker than the DOT-111 7/16 inch shells) and advanced valves that are more resilient in the event of an accident. However, these newer cars were involved in the derailments and explosions in Virginia and West Virginia within the past year, raising questions about the validity of replacing only the DOT-111s manufactured before 2011.

Before the rule was finalized, early reports indicated that the rule submitted to the White House by the Department of Transportation has proposed a two-stage phase-out of the current fleet of railcars, focusing first on the pre-2011 cars, then the current standard CPC-1232 cars. In the final rule, DOT mandated a more aggressive timeline for retrofitting the CPC-1232 cars, imposing a deadline of April 1, 2020 for non-jacketed cars.

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DataSpotlight

The recent oil production boom in the United States, while astounding, has created a misleading narrative that the United States is no longer dependent on oil imports. Reports of surging domestic production, calls for relaxation of the crude oil export ban, labels of “Saudi America,” and the recent collapse in oil prices have created a perception that the United States has more oil than it knows what to do with.

This view is misguided. While some forecasts project that the United States could become a self-sufficient oil producer within the next decade, this remains a distant prospect. According to the April 2015 Short Term Energy Outlook, total U.S. crude oil production averaged an estimated 9.3 million barrels per day in March, while total oil demand in the country is over 19 million barrels per day.

This graphic helps illustrate the regional variations in crude oil supply and demand. North America, Europe, and Asia all run significant production deficits, with the Middle East, Africa, Latin America, and Former Soviet Union are global engines of crude oil supply.